What is a Secured Loan?

When looking for a loan, you may have heard the terms "secured" and "unsecured." It's important to understand what a secured loan is and how it differs from an unsecured loan.

Secured loans

When a loan is secured, it means it is backed up with some sort of collateral. This could be a piece of real estate, an automobile, some kind of personal property or a financial instrument, such as a life insurance policy or brokerage account. Basically, a secured loan gives the lender the right to take possession of the collateral if you do not fulfill the terms of the loan. This could be foreclosure on a home or repossession of a car.

Unsecured loan

An unsecured loan is one where there is no collateral involved. A personal loan is a type of unsecured loan as is a student loan. Credit cards also are considered unsecured loans. With an unsecured loan, the lender has no recourse other than to sue you if you don't pay back the loan.

Advantages and disadvantages

The big advantage to a secured loan is lower interest rates. Because you are backing the loan with collateral, there is less risk to the lender, which means you get a lower interest rate. Mortgages and auto loans have some of the lowest rates of any loans because they are secured loans. The big disadvantage to a secured loan is the potential to lose your collateral if you default. With unsecured loans, the advantage is that you are not risking any collateral with your loan. Your lender is taking on all the risk, which is why unsecured loans carry much higher interest rates. Such loans typically carry rates that are double the rate you could get on a secured loan. For example, if the rate on a mortgage is 4 percent, the rate on a personal loan is likely to be 8 percent or more.